UK: Ambition Is Key For The DWP

The Department for Work and Pensions (DWP) has published a
consultation on its proposals for a new alternative model to the
traditional defined benefit (DB) and defined contribution (DC)
occupational pension scheme structures. The "defined
ambition" (DA) framework has been developed with input from
the pensions industry, and the DWP is now seeking views on its work
to date.

Flexible DB

According to the DWP, the end of 'contracting-out' of
pension schemes (following the creation of a single-tier state
pension) presents an opportunity to simplify the complex
legislative regime for DB pensions. As such, the DWP is
proposing to remove the statutory requirement to provide annual
index-linked increases to pensions in payment. This change
would apply in relation to future accruals earned in respect of
members of both new and existing DB schemes, and would consequently
allow employers to remove an element of the risk which they
currently bear. They could, of course, continue to increase
pensions at their discretion.

Building on this proposal, three different designs have been
offered which are intended to increase a scheme's
flexibility:

Employers could choose to pay certain additional benefits on a
discretionary basis over and above the simplified DB level when the
scheme's funding level allows.

Employers could continue to guarantee a DB pension and pay
related benefits while a member is in employment and normal DB
scheme rules would be applied in relation to the member's
retirement or death in service. Where the member leaves
pensionable service before reaching their retirement date, however,
the amount of pension benefit they have accrued in the scheme is
crystallised and the cash value transferred to a nominated DC
pension fund.

Employers could be granted the ability to change the scheme
pension age in line with actuarial assumptions regarding longevity,
meaning that they can ensure that members retiring at different
times would be more likely to spend roughly the same amount of time
in retirement.

Collective DC

Under collective DC arrangements, employers would pay fixed
contributions into a collective scheme asset pool, which is used to
pay out the members' pension benefits on retirement (rather
than a member buying an annuity product to pay their pension).
There is typically no guarantee being provided for the member
regarding pension benefits - rather a target value which may often
be complemented by conditional indexation payments - and the actual
pension received will depend on the availability of scheme
assets.

This may be a preferable option for employers in the sense that
only fixed contributions are required and that no further funding
obligations are to be borne by the employer or reported on the
company's balance sheet. By contrast, although the
members would bear the inflation and investment risk under this
arrangement, the risk would be shared amongst them as a
collective.

Guaranteed DC

For employers who would like their employees to have a bit more
certainty about their retirement benefits, but who would also wish
to avoid taking on additional risk or forcing themselves to make
expensive promises to members about the level of retirement income
which will be due, the DWP proposes four models of types of
guarantee, namely:

a way of guaranteeing that members would at least get the value
of their contributions back if scheme investments
underperform;

providing a capital and investment return guarantee;

using a portion of the member's fund to buy retirement
income insurance; and

adopting a Dutch-style "pension income builder", in
which contributions are used for two separate purposes: part of
them are used to buy a deferred nominal annuity, payable from the
current pension age; and the remaining part is invested into a
collective higher-risk asset pool alongside other members'
residual contributions. The return from the investment would
then be used to fund indexation payments which would be made when
the scheme funding position allows.

The DWP's intention with DA is to provide a type of pension
scheme arrangement which acts as a middle ground between offering
the benefit of greater certainty in what the member's final
pension will be in a DB arrangement, and the lower capped cost for
participating employers in providing a DC pension scheme.

However, to borrow Antony's famous quote in
Shakespeare's Julius Caesar, "Ambition should be made of
sterner stuff"; questions have already been raised as to
whether the proposals go far enough to address the wider challenges
in the pensions market.

The consultation paper can be viewed here and is open to responses until 19
December 2013.

The material contained in this article is of the nature of
general comment only and does not give advice on any particular
matter. Recipients should not act on the basis of the information
in this e-update without taking appropriate professional advice
upon their own particular circumstances.

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With the summer holidays drawing to a close, the coming months are set to be busy for many HR practitioners. Below we look at some of the key employment and immigration issues on the HR agenda this autumn:

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